A bad idea: Separating 'E' from ESG

The S and G pillars are as important as E in assessing corporate performance

The Economist in its July 23 edition has eight articles on ESG or environmental, social, and governance investing, critically examining the practices being followed by corporations and funds worldwide, highlighting pitfalls and contradictions in the different approaches, and doubting the very concept itself.

In conclusion, one of the articles suggests that going forward, one should focus only on the “E”; and in fact within that, only on “Emissions”. The crux of the argument for this narrow focus is that E, S & G are different components and are at times unrelated. The performance of a company under all three components may not move in the same direction—example of Tesla has been given, wherein electric vehicles production is E positive but the company’s performance on G is not much to talk about. Further it says, even Environment is too wide an area and the right approach would be to concentrate only on Emissions. This would upfront address the climate change threat the world is facing. Emission targets could be unambiguously fixed for corporations and their performance measured. This would also provide clear guidance to funds that wish to invest in corporations doing a public good.

Separating the E from ESG is an idea that should not be taken forward and be quietly buried. The S and G pillars are as important, with significant externalities, as E in assessing corporate performance from stakeholders’ perspective. No one can argue that the corporations violating human rights, infringing labour rights or having gender-insensitive policies shouldn’t be shunned. Corporations not following the corporate governance norms can’t be idolised. Impact investments can’t ignore a corporate’s performance under these two pillars. Further, even within the Environment component, why focus only on emissions? Aren’t containing groundwater pollution, waste-water treatment, and recycling equally important?

The suggestion of focusing only on greenhouse gas emissions stems from the larger objective of containing the rise of global temperature to 1.5/2.0 degrees above the pre-industrialised period, as agreed under the United Nations Framework Convention on Climate Change (UNFCCC) negotiations.

Note that even the Conference of Parties’ (COPs’) negotiations under the UNFCCC framework give due consideration to Social and Economic factors, besides Environmental, while arriving at an agreed position amongst participating countries. The commitments made by different countries in these negotiations depend upon their stage of development and are based on the broad principle of “common but differentiated responsibilities and respective capabilities”. Based on its commitment, a country could choose to further dis-aggregate the macro target amongst the concerned entities including corporations within its jurisdiction appropriately. Naturally, it would be erroneous to compare the performance of corporate entities across the world using uniform emission norms.

That brings me to the larger issue relating to the negotiations in COPs’ meetings on climate change. The developing countries have struggled to put up a united front to keep the social and economic dimensions relevant in these discussions. The developed countries would have preferred to discuss only the environmental issues. Then there is the issue of equity and climate justice; the developed countries have failed to meet their commitments on providing finances and technology transfer to developing countries.

There are clear signs of developed countries sliding back on their own emission commitments made in climate change negotiations. The ongoing Russia- Ukraine war and its impact on the global availability of fossil fuels and their prices has forced many countries to rework their energy policies. The EU’s decision to include gas and nuclear into the “Green” taxonomy has created a lot of controversy. The prevalent extreme heat wave in Europe has put extra public pressure on the governments there to do more about climate change. Then, there appears to be no unanimous view over “Social” taxonomy. Some consider arms supply support to Ukraine a good social cause, and have argued in this context that even the investments in the defence industry and weapons manufacturing may be considered as sustainable investing.

Climate change negotiations in COPs’ meetings involve 197 member countries. Generally speaking, the developing countries, which constitute a big bloc amongst the members, have a strong lobbying power and say in these negotiations. The developed countries can’t easily have their way on issues not palatable to the developing countries. The current state of flux on climate change policies in the developed countries makes one suspicious about whether the idea of separating “E” from ESG is being floated by some with vested interests in an attempt to achieve what has not been possible to achieve in climate change negotiations so far.

Illustration: Binay Sinha

Sustainable finance, climate finance, ESG, and related matters are also being discussed in a number of other international forums, wherein the developed countries may find it relatively easier to push their agenda on account of their larger presence in these bodies’ plenaries as also the procedures followed therein.

For instance, ESG is a topical subject for discussion in the Financial Stability Board (FSB) and the International Organization of Securities Commissions (IOSCO). While India and some other developing countries are members of their plenaries, they are dominated by developed countries. Their secretariats are largely manned by the personnel from developed countries, and their consultation/background agenda papers are influenced by EU perceptions, which have a strong environmental bias.

These subjects are also being discussed in G20 meetings. While G20 doesn’t have a permanent secretariat, it is significantly dependent on inputs from OECD, FSB and IOSCO on various issues. Indian officials attending meetings of these forums ought to be careful that they do not end up supporting, even obliquely, the ideas that go beyond what has been agreed during the climate change negotiations. As India assumes the presidency of G20 by the end of this year, there is likely to be a lot of peer pressure from the developed member countries on India to commit more on such issues. We must safeguard our domestic policy space in these negotiations.

In my earlier article “ESG Conundrum” in this paper on May 24, 2022, I had brought out the problems in objectively measuring and comparing ESG performance of different corporate entities and funds across the world. I had also suggested the way forward for India to follow. In view of the emerging global scenario, it is all the more important to properly think through our policy on the subject.

The writer is a retired IAS officer and a former Sebi chairman